League of Cities Executive Director Implies Recent String of Bankruptcies Is Not Rock Bottom

In July the City of San Bernardino joined the ranks of Stockton and Mammoth Lakes as yet another California city seeking bankruptcy this year. Unable to meet its $45 million budget shortfall, city leaders were faced with no options. TPR spoke with Chris McKenzie, Executive Director of the California League of Cities, to discuss the long run fiscal challenges tied to mandatory spending that so many cities are grappling with across the country. McKenzie implies that without drastic changes, cities are so strapped that conditions may only continue to get worse for those teetering on the edge.

Chris McKenzie

"I’ve pretty much come to the conclusion that things are going to have to get worse before they get better, before people are willing to come up with some common sense solutions."
-Chris McKenzie

David Abel: Chris, as the executive director for the California League of Cities you’re on the firing line this week in responding to the San Bernardino City Council vote to proceed with bankruptcy. Can you put into perspective the fiscal challenges California cities are having at the moment?

Chris McKenzie: They all have one thing in common, and that is the recession has left them deeply wounded with declining revenues. Those that are dealing with the added complication of the mortgage foreclosure crisis, like San Bernardino and Stockton, have really experienced a double whammy because their property values in many cases don’t have a prayer of recovering until those foreclosed mortgages can be dealt with and until people get a greater sense of confidence in what the future holds for their community.

The recession has obviously been the main culprit here, but it has been complicated by actions taken by both the federal and the state government, like the federal government reducing funding for community development block grants and other programs. Perhaps most difficult to deal with, however, has been the state’s incomprehensible decision to kill its most important jobs program in the $5 billion local redevelopment program and also last summer's diversion of vehicle license fee money, which has cost cities $130 million statewide. The City of LA and other Southern California cities lost a significant amount of funding due to the VLF raid. The dissolution of redevelopment agencies has had a dramatic effect in some cities and has caused serious displacement.

It’s important to remember that there are a lot of infrastructure and other projects that have now been mothballed because that program no longer exists. Those projects are not creating jobs, and they’re not creating state and local tax receipts because they simply can’t go forward.

David Abel: I think the next question of import to ask is, are there any other cities that are on the cusp of a similar bankruptcy filing that the public ought to be aware of?

Chris McKenzie: Not that I’m aware of, but cities typically do not telegraph their intentions in this area. There is a real practical problem with doing that, and the moment you start discussing bankruptcy in public, it can have an effect on your credit rating, raising the cost to borrow money in the credit markets, which means the hole has been dug deeper.

We have not received notice from any city that they’re considering it. I will tell you what I’ve told others in the last day: since the Vallejo bankruptcy, the word on the street amongst cities is that bankruptcy is an extremely difficult process to go through, and it literally is the choice of last resort. It will not solve all problems, but, ultimately, it may be a choice some have to make, as Stockton and San Bernardino have said they’re going to do.

David Abel: This past year legislation was signed by the governor requiring negotiations before entering into bankruptcy. Am I understanding that correctly?

Chris McKenzie: That’s right. There was a bill passed last year, which the League ultimately removed its objections to and actually helped craft, that creates a neutral third party mediation process for 60 to 90 days before bankruptcy is triggered. It has been used in the instances of Stockton and Mammoth Lakes, and it is apparently not going to be used in the case of San Bernardino because they are facing an imminent cash shortage that will prevent them from meeting payroll. In that kind of an instance the same law allows them to declare a fiscal emergency and move forward immediately into chapter 9 bankruptcy to start that process.

David Abel: Perhaps contributing to fiscal insolvency are public pensions’ impacts on city budgets. How transparent are city pension costs and liabilities.

Chris McKenzie: The new unfunded pension liability disclosure requirement is actually a requirement of the Government Accounting Standards Board, and it takes effect in 2014. Aware of that, but more importantly aware that pension obligations are consuming an increasing share of general fund budgets, cities started a few years ago to make changes in their pension plans. That has led to in the adoption of a new, lower tier of pension benefits for new hires in many cities. Probably up to about half the cities now have a much lower tier of benefits for new hires, and in the last year cities have been negotiating with their employee groups, many times out of cycle with when these agreements expire.

There are recent agreements to pick up much more of the costs of pension benefits. We’re seeing that go on in many cities across the state combined with, of course, layoffs and other types of budget reductions. Many employee groups have been willing to shoulder a bigger share of the cost of their pensions because they know that the ultimate problem if those costs can’t be brought under control is that there are going to be more layoffs.

David Abel: Put in perspective the bankruptcy announcements of last week. After triage, what are the League of Cities policy priorities?

Chris McKenzie: Our number one priority after we, hopefully, work with our cities to get through this most recent redevelopment debacle (much of which was unnecessary) is to work with the governor to enact pension reform. That’s our number one priority, and we want to see that happen because there are some things that cities cannot do until the legislature gives us the freedom and the options to do them. We’ll be focused a lot in the next month and a half on pension reform. We hope they enact a comprehensive pension reform package.

David Abel: What might a comprehensive pension reform package include, from the perspective of the League and your member cities?

Chris McKenzie: We’re in agreement largely with most of the principles in the governor’s 12-point plan. We’d like to see an end to spiking; we’d like to see a later retirement age; we’d like to see a hybrid plan where you’ve got a defined benefit up to a certain level and then after that more of a defined contribution, what’s called a “cash balance plan,”in which the employee has more control over the management of those resources, perhaps with some kind of assistance from the employers and some kind of minimum guarantee. But there’s a host of reforms that the governor laid out, and we’re in agreement with each other about what most of those things need to be.

We’ve also said that city councils and managers need the ability to go to their employee groups to ask them to shoulder an even bigger share of the cost of these pensions. They currently don’t have the legal authority to ask them to shoulder certain pension costs, and we have asked for that authority and are hopeful it will be coming. You can’t ask for something that you don’t have the legal authority to do, and so we’re hoping we get that.

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These pension costs have to be brought under control. The unfunded liabilities will be reported in the next year or so, and it’s going to become even clearer how important it is to bring them under control. Anybody who is watching a city general fund budget from year to year knows that employee benefit costs are eating up an increasing share of that budget, and that simply is unacceptable and needs to be brought under control.

David Abel: Two California cities, San Jose and San Diego, had initiatives on their ballots this spring dealing with pensions. Can you describe the shockwaves from the success of those initiatives?

Chris McKenzie: I think our membership was encouraged by those votes, and it indicated that the voters are exactly where we thought they were and that we are on the right path. Whether it’s the San Jose approach, which shifts more costs to the existing employees, if they want that benefit; or the San Diego approach, which is going to a defined contribution plan that sort of outlines two options. There are many other ways this could be structured, but it just confirms what city officials are telling us. They’re picking up from their constituents what needs to be done.

David Abel: Chris, more than a decade ago we were both part of high level discussions on reforming state and local government finance. It is 2012, and the dysfunction is only greater. Can you talk about the way that state and local finance works today and whether there’s a light at the end of the tunnel for cities, given the current relationship?

Chris McKenzie: It’s been very hard to have any conversation about restructuring that relationship because it’s so complex and so many vested interests get gored. Our organization believes that the public interest is best served when government is as close as possible to the people. The people in state government have important roles to play, but in the current environment the operating assumption in Sacramento in state government seems to be that what the state does is always going to be more important than what local government does. That’s why state leaders have chosen to take funds used to create jobs, build infrastructure, and pay for police and fire.

Now, we’re not blind to the importance of state services. We’re very concerned about what’s happened to our education system. But I’ve pretty much come to the conclusion that things are going to have to get worse before they get better, before people are willing to come up with some common sense solutions. We are still willing to do that, and we want to work with other groups that want to do it.

David Abel: So does “things getting worse” mean beyond three cities declaring bankruptcy?

Chris McKenzie: You might look at it that way. I was thinking in terms of increased tension between state and city governments. I can’t tell you how much anger and resentment there is at the local level now about the way cities have been treated by state government. That’s not a recipe for healthy collaboration. The reality is that economic development activities largely occur because of the actions of cities and private investors in partnership. State government really has a support role to play.

In the last year, we believe, state government has become an impediment to creating new jobs and to growing revenue for the state and cities. They are now diverting illegally, we believe, revenues that pay for basic city services. We’re suing them over the diversion of the VLF money. Until that stops and we have a clear distinction between local revenues and state revenues, and until the state chooses to respect that distinction instead of violating the constitution and forcing us to sue them,this is going to continue. At the moment our members are consumed with dealing with this latest crisis of the state’s making, trying to preserve basic services and not make matters worse.

David Abel: Chris, as you well know, most of the legislature is made up of former local public officials. What happens when these locally elected officials move to the capitol?

Chris McKenzie: I think they become part of a system that is designed to perpetuate state sovereignty and dominance in California.

One of the most bizarre experiences I’ve ever had was to watch the debate in March 2011 on the governor’s proposal to dissolve redevelopment agencies. Every speech that was given in favor of the bill lauded all the accomplishments of local redevelopment agencies, especially for areas impacted by poverty and crime. But then they’d say, “We’re going to recreate redevelopment because we need to get the money right now.” That causes you to wonder what their thought process might be and how tortured some of those members are when they are asked by their leaders and by the governor to kill a program that they know has been good for their constituents and which they helped run in the past. They know where those investments were madeand how important they were in creating jobs and stronger neighborhoods.

That’s what things have come to. It’s where we are, and we’re going to have to deal with it. The old axiom, “The first thing you have to do when you’re in a hole is to quit digging,” I think, is applicable to this situation. We all have to quit digging and start climbing out.

David Abel: Chris, to close, you’ve recently joined a committee to pick the successor executive director of the National League of Cities, to replace the retiring executive director. Are the pressing issues facing California cities today common nationally? Are the challenges just as great?

Chris McKenzie: In my experience, every city and state across the country, with a few exceptions like North Dakota, have been hit very hard by the recession. The issues there are the same. I would say that the tremendous intensity of the mortgage foreclosure crisis in California, as in a few other states, has made the crisis here that much worse and much more difficult for our economic recovery. We absolutely have to turn the corner there before we’re going to see some sustained growth and return of local and state government revenues.

Hopefully we’ll do that. The legislative packageconcerning mortgage foreclosures the governor signed yesterday may be helpful with that. There have been many efforts in the past, and they haven’t really succeeded. We’ll have to just see about this one.